Stock Market Fundamentals

In an 11/13/08 post on the market, I mentioned that my favorite
fundamentals were "just shy of turning fully bullish". I was waiting
for confidence measures, particularly a group of doggie BBBs, to
reverse to the downside in yield to confirm the change. That strong
confirmation came this week with a sharp downward break in
collective yield for the group. So, confidence continues to return to
the capital markets.

My primary indicators are simple -- trend of market short rates,
trends of monetary liquidity and the basic money supply, trend of
yields of the low rung of investment grade credits, and yield quality
spreads. These measures are computed over monthly periods and
when all the readings are positive, history shows clearly that stocks
tend to rise substantially thereafter. No "sell" signal will come until
all indicators are negative at once.

My secondary indicators are also bullish: postive slope to the yield
curve, liquidity in excess of what the economy demands and earnings
which have fallen below trend on a cyclical basis. The latter factor
rquires explanation. When 12 month earnings turn down in a
recession period, the stock market goes down until earnings fall below
the long term trend. Once earnings are below trend, the guarantee of
a bear market ends as investors seek to anticipate recovery.

Now I do have misgivings about the timing of the positive turn of
market fundamentals. I would be happier to see a retest of the
Nov. '08 lows at some point over the next 4 months on the
premise that a deep cyclical bear market ought to run a good 16 - 17
months from the prior top (10/07 in this instance). I worry that with
the Obama inauguration and announcement of a big fiscal stimulus
plan a few weeks ahead, the market may have bought the rumor and
be getting ready to sell the fact shortly thereafter. Secondly, I
have reservations about the upside potential of this market reflecting
my view that economic recovery could very muted for a good
several years befor a new take off phase develops. Finally, the
timing of the change in fundamentals could have been better -- the
market is overbought short term.